Investigating the NAMA account!

December 20, 2009

ONE…

of the disappointing aspects of the recent NAMA debate has been the scarcity of information on how exactly NAMA will impact on the Irish taxpayer over the medium to longterm future 5-10yrs. While there is broad speculation on the consequences of losses to be incurred by the Irish taxpayer in regard to NAMA there is no de facto detailed analysis of  how the Irish taxpayer will payback these losses over the period of the NAMA project . Aided in part by the support of the ECB(European Central Bank) to concealment of NAMA from the current balance of payments budgetary accounts, the precise ways that NAMA will meet its liabilities over the coming decade is hidden away from the eyes of the general public.

Both the government and the Department of Finance have scored a goal against the opposition to NAMA in failing to educate the Irish public on the financial consequences of NAMA. For the opposition imho not to have adeqautely painted this picture in simple terms this has been an own goal. To give loss projections without scenarios that illuminate payback mechanisms, scheduling, or adverse scenarios such as further digouts by the ECB  and further greater indebtedness or painful balance of payments budgetary adjustments means the Irish taxpayer is not being served by a truthful account of the NAMA project.

The question is, how will NAMA be paid for by the Irish taxpayer over the coming decade. The answer to that question involves a good deal of technical complexity as you will see reading on. The truth is not enough commentators with the economic skills to do so have unravelled into simple layspeak the answer to this simple question. What follows is an outline of the technical documents that need to be examined upon which such an answer will need to be based. For this post, no attempt is made to comment upon or explain the detail of what is to follow. What this post sets out to achieve is to survey some areas of documentation where an answer to this question may be sought.

http://www.davidmcwilliams.ie/2009/12/16/country-on-doomed-course-with-insiders-at-the-helm/comment-page-2#comments I put the question in the following way:

“Look,

To give more substance to speculation, we need to nail down the facts with a simple excel worksheet exercise.We know what the ECB figures are. We know more or less what will be handed over to the banks.But we dearly need financial projections on how the taxpayer will provide the payback to the ECB in the years ahead!

Government(%#!!) in keeping the figures off the budget books has also concealed our payback obligations, and the projections of how the taxpayer will fund our ECB bonds. A classic ‘ now you see it, now you don’t ? ‘ trick has been perpetrated on the Irish voter. In collusion with the ECB the real cost of the banking crisis has been kept off the books thus mitigating the political cost but at the expense of our collective future!

Some people actually believe that the ECB has given bailout money for the banks to Ireland free gratis! The Government would appear to be among them!

So, we need some financial projections, hard figures, on the cost of the bailout both in terms of interest repayments and the capital requirements of pay back. Plus the social implications on the speculative side. As well as speculation on future political and sociological scenarios, these figures need to be presented to the Irish taxpayer voter.

Then we can fully understand how the trick works and how the Government are pumping our collective futures down the toilet.

Doing the Maths would be great! How’s about an article on our financial payback obligations then?”

http://bankermathews.com/nama-whats-wrong/ gives a good picture of the NAMA account but does not go into the detail of how the losses will be transferred across to the Irish taxpayer and how the taxpayer will be billed as a result of these losses. To put this another way, we see the bill, but not how the bill will be paid back.

Of course this neat trick played upon the Irish taxpayer depends on something else as well, namely, our gullibility. Propaganda from government sources and proponents of NAMA argues that the problem of payback highlighted in this article is not a problem at all. In fact, NAMA by some sources will make a profit! As well as our belief that NAMA will make a loss, we need to outline precisely how that loss will be paid for by the Irish taxpayer over the coming years.

For reference, at the end of this post, I give the content of that url. Similarly here http://stephenkinsella.net/banksmax.pdf we find analysis of NAMA losses and projections of valuations that should be paid to protect the tax payer. But once again, if these projections are correct, how will the Irish taxpayer pay back such projected losses to avoid defaulting on the loans?

Its as if the Irish taxpayer has taken out a giant loan on a piece of rubish overvalued property and the country has neither the means nor the capacity to pay back the loan. Can this ill advised lending lead to the bankruptcy of the Irish economy?

So, I’ve posed the question, here are some documents upon which such payback mechanisms that will be levied upon the Irish taxpayer will be based. How these losses will be translated into balance of payments markups in the future needs to be further clarified by more enlightened commentators on the economics of NAMA than this one. However, as a layperson in this area, I would dearly like to see an effort being made in this regard.

Refs:

http://www.thepropertypin.com/files/losses_on_nama_times.xls

Similarly The calculation sheet “NAMA-Calcs” shows the calculations which underly the opinion piece “True Cost of Bad Bank could be Horrific” Sunday Times 24 May 2009, Brian Lucey and Constantin Gurdgiev  Brian Lucey : blucey@tcd.ie Constantin Gurdgiev : gurdgiev@gmail.com

For reference below:

http://bankermathews.com/nama-whats-wrong/

“So whats’s wrong with NAMA?
There are many things, here’s the first:

NAMA Loans Losses
Summary Projected Alternative Realisations Outcomes

NAMA original Loans value 77.00 bn Purchased by NAMA 54.00 bn
60% Non-performing: 46.20 bn
40% Performing: 30.80 bn
Let’s look at immediate / present situation, assuming that all Performing
Loans can be 100% recovered:-
Recovery rate on Performing: 100% X 30.80 bn = 30.80 bn
Recovery rate on Non-performing: 25% X 46.20 bn = 11.55 bn
Total recoveries 42.35 bn
NAMA loss: €11.65 bn

But let’s suppose that over time we get to (which experts believe will be best case):
Recovery rate on Performing: 80% X 30.80 bn = 24.64 bn
Recovery rate on Non-performing: 40% X 46.2 bn = 18.48 bn
Total recoveries 43.12 bn
NAMA loss: €10.88 bn

Now let’s suppose that instead we get (which experts believe will be likely case):
Recovery rate on Performing: 60% X 30.80 = 18.48 bn
Recovery rate on Non-performing: 20% X 46.20 = 9.24 bn
Total recoveries 27.72 bn
NAMA loss: €26.28 bn

So let’s look at what needs to happen for NAMA to Break Even:

Let’s set some parameters, make some assumptions
You can’t make more than 100% on a loan.
Current recovery rates are 25% (we’ve seen this in Zoe and now Fleming and also IGB site)
All the loans that are currently Performing stay Performing.
In the break-even case, therefore, assuming full 100% recovery on the Performing loans, then the recovery rate for Non-performing loans has to improve from the current 25% to 50%, explained as follows:-

NAMA original loan value 77.00 bn
60% Non-performing: 46.20 bn
40% Performing: 30.80 bn
Price paid by NAMA 54.00 bn
Break-Even = €54.00 bn – €30.80 bn = €23.2 bn Recovery in Non-performing
Recovery Rate required on Non-performing = 50% (i.e. 23.2 / 46.2 X 100/100%)

NAMA requires the prices of underlying assets to go up by 100%, i.e. 9% a year, compound, every year for nine years, not simply a 10% uplift over ten years.

Proof:- Bank Book Value of Non-performing Loans 46.20 bn
Recovery @ Current empirical 25% rate (Zoe Fleming IGB etc) 11.55 bn
50% Recovery of Non-performing Loans in order to Break Even (B/E) 23.20 bn
Increase in Recovery from Current empirical (25%) to Break Even (50%) 11.65 bn
Increase in Non-performing Recovery rate from 25% to 50% = 100% implies the prices of underlying assets increase by 9% pa compound for 9 years.

Conclusions:-

  1. NAMA assumption that there will be 100% recovery on the €30.80 bn Bank Book Value of Performing Loans is completely wishful, bordering fanciful (in light of current empirical evidence)
  2. NAMA assumption that there will 50% recovery of €46.20 bn pre-NAMA Bank Book Value of Non-performing Loans is completely fanciful.
  3. Requiring that both (1) and (2) above happen together is doubly completely fanciful,
  4. All other direct costs of setting up NAMA and managing and administering NAMA and related bureaucracy establishment costs and then further operational inefficiencies costs and indirect costs of a new “albatross” over-shadowing the economy and confusing and delaying price corrections etc and all indirect costs, express and not so obvious, in addition to birth of a new NAMA “culture” in this small parochial country would be enormous.
  5. To proceed with NAMA, experts have concluded, would be financially unjustified, illogical and quite reckless..
  6. To over-pay the Banks at €54.00 bn for Bad Loans doesn’t make sense.
  7. To hope to Levy the Banks at a future date for an over-payment by NAMA and to expect the Banks not to pass on the Levy to their customers (the Taxpayers) is naïve, bordering fanciful. Past evidence shows that Levies on Institutions always get passed on to Customers (Citizen Taxpayers).
  8. If NAMA proceeds, against the best advice, further write-downs of 10% – 20% on the Banks’ €77.00 bn Bad Loans should be charged to the Banks before Sale of the Bad Loans to NAMA. This would increase the Bad Loans write-offs in the Banks’ books by a minimum of €7.70 bn from €23.00 bn to €30.70 bn. (applying a 10% additional write-down) or by €15.40 bn to €38.40 bn (applying a 20% additional write-down)
  9. (7) above highlights and strongly supports the argument that the Banks are in urgent need of immediate re-Capitalisation of the full minimum write-down amount of €30.7 bn

Summary:-

Experts agree that the NAMA result with highest reasonable probability is:- 65% recoveries on “Performing” Loans and 35% recoveries on Non-performing Loans. That reasonably forecasts the losses on NAMA Loans Recoveries as follows:-

Purchase Price of Total NAMA Loans (Pre NAMA book values €77.00 bn) €54.00 bn
Recoveries Performing Loans 65% X €30.8bn = €20.02 bn
Recoveries Non-performing Loans 35% X €46.2bn = €16.17 bn
Total NAMA loans Recoveries €36.19 bn
Total Estimated NAMA Loans Recoveries Losses [ignores other costs at (iv) above] :- € 17.81 bn
This implies an additional write-down requirement of 23% on €77.00 bn [i.e. 17.81/77.00%],
a marginally higher additional write-down % than the 20% mentioned at (vii) above.”

http://stephenkinsella.net/banksmax.pdf

“A Simple Constrained Minimisation Problem Regarding NAMA
Stephen Kinsella
16/04/09
stephen.kinsella@ul.ie
Static Problem Statement. You are a social planner who has to buy troubled assets from Irish banks, and you must
hold them for long enough to make either a net profit for the taxpayer or a zero net social loss. Therefore, your static
problem is to choose a price p to minimise the exposure of the Irish taxpayer (I’ll define what I mean by ‘exposure’
below), subject to the following constraints.
1. Reduction in Uncertainty. Each Irish bank i requires a reduction in uncertainty, ui, associated with their balance
sheets to equalise their individual uncertainties with the market-level of uncertainty, i.e. such that ui § u. They need
this reduction because without it, the banks will not be able to borrow on the open markets, and will wind up being
insolvent anyway, forcing a nationalisation. Assume that if the correct level of funding is transferred to the banks, this
reduction in uncertainty will occur in lockstep.
2. Avoid insolvency. Each bank requires a transfer of capital from the government for the assets they no longer wish
to hold. If the price is too low, the banks will need to be recapitalised. Thus the price of the assets paid by the government
must be greater than the minimum level required to keep the banks afloat, or p.Q ¥ pmin.Qmin.
3. What Percentage of the assets are bad loans? Q here is actually a vector of assets of differential and largely
unknown riskiness. Assume we know the probability of default on all these assets for a moment. Now sort the vector
Q, such that the riskier assets are at the top. Counting the return from the top of the vector to the bottom, at some
point we will encounter a positive return. The operational question for NAMA is: how far down this vector do we
have to go until we see a positive return on an asset, and how large are the individual loss-making assets indexed by
this vector?. Removing the assumption that we known with prob. 1 how risky these assets are, we must assume an
upper bound on the default probabilities, and calculate this without reference to the assets themselves, but rather with
regard to the ability to repay of the debtors of each asset over time. Because the Irish taxpayer will be the sole owner
of the claim on these assets through NAMA once the ownership of the loans has been transferred, the chances of
default are, I would argue, higher rather than lower, thus a higher assumption of the degree of default, Qbad, must be
included. Looking at international comparisons will not be useful in this case except as a rough guide, firstly because
the instituitional structures are different in different countries, and more importantly, because of the narrowness of the
Irish market, especially for commercial property development. Thus we need to set the amount the taxpayer might be
liable for, the default ratio, to be less than the tax liability the Irish taxpayer might be exposed to, which would be the
proportion of the growth of disposable income (YDL they would lose in the future through higher taxies levied to
recoup the debt, …….”
see also:
http://www.ntma.ie/GovernmentBonds/technicalPoints.php
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